Six Social Security Mistakes to Avoid

One of the most common worries I hear from clients is that social security won’t be there for them when they retire. Hence, many of them insist on claiming social security at the earliest possible age so they can get back as much money that they paid in as they can. Hint: social security is not going anywhere; a few tweaks in benefit payment and taxation of wages here and there, and it can be viable for decades to come.

“What if I die before I claim social security?” Most of the time, my answer is that the only ones who will care about that are their heirs, since it meant that my clients spent a little more of their nestegg patiently waiting for their benefits to grow. And in that case, there is usually plenty in the nestegg to keep them happy.

Social security rules are so convoluted and confusing that even I have a tough time remembering and reciting them. But hopefully with this article, I can help you avoid some of the most common mistakes people make when claiming social security.

On January 31, 1940, the first monthly Social Security check was issued to Ida May Fuller of Ludlow, Vermont. She received $22.54, according to the Social Security Administration. She was 65 years old at the time. She passed away at 100 years of age.

Ida May Fuller worked for three years under the Social Security program, paid a total of $24.75 in payroll taxes, and collected $22,888.92 in Social Security benefits.

Today, nearly 70 million people receive some form of assistance from Social Security. You and I will never receive the return on our contributions that Ms. Fuller received, but Social Security can and does play a role in supplementing savings accumulated over a lifetime.

Recognizing that Social Security supplements other sources of income, we can take proactive measures that maximize benefits while avoiding the pitfalls that poor choices can create.

With that in mind, let’s review potential financial Social Security potholes that can cost you money.

1. Collecting benefits too soon. You may begin receiving your retirement benefit at age 62…at a reduced rate. You probably know this, but let’s talk turkey.

If you were born in 1960 or later, full retirement age is 67. At age 62, your monthly benefit amount is reduced by about 30% of what you would receive if you waited until you are 67. The reduction for starting benefits at 63 is about 25%; 64 is about 20%; 65 is about 13.3%; and 66 is about 6.7%.

In casual conversation, it’s common for clients to ask us, “When is the right time for me to begin receiving benefits?” We usually respond with a less-than-definitive, “It depends,” because many variables, both objective and subjective, factor in.

If you have questions, let’s talk. We believe it’s important to tailor our thoughts and recommendations to your specific circumstances. Optimizing your spouse’s and your social security claim dates can literally add tens, if not hundreds of thousands to your retirement income stream.

2. You collect prior to your full retirement age while still working. If you are under full retirement age for the entire year, Social Security deducts $1 from your benefit payments for every $2 you earn above the annual limit. For 2019, that limit is $17,640. Ouch!

In the year you reach full retirement, Social Security deducts $1 in benefits for every $3 you earn above a higher limit. The 2019 income limit is $46,920. Only earnings before the month you reach your full retirement age are counted.

In many cases, the price of collecting Social Security while working and under full retirement age can be costly.

3. You are unaware that your Social Security may be taxed. IRA and 401(k) contributions may be deducted from income to reduce your overall tax bill. However, Social Security taxes paid by the employee are not deductible. But that doesn’t necessarily translate into tax-free Social Security income.

If you file a federal tax return as an “individual”  and your combined income (excluding Social Security) runs between $25,000 and $34,000, you may have to pay income tax on up to 50% of your benefits. Earn more than $34,000, and up to 85% of your benefits may be taxable.

If you file a joint return, the threshold rises to $32,000 and $44,000, respectively. Proper tax planning with your other income can help minimize the income taxes that apply to your social security benefits.

4. You decide to defer the spousal benefit. The longer you wait to take Social Security, the greater the monthly benefit, up to age 70. So, why not employ the same strategy for your spouse, if money isn’t the primary issue? Unfortunately, that may not be a wise choice.

The most your spouse may receive is 50% of the monthly benefit of the primary account that you are entitled to at full retirement age.  If your spouse waits past his or her full retirement age, he or she is leaving money with the government. Again, optimization of social security benefits can help figure out what claiming strategy makes the most sense.

5. Remarriage and your benefit. It’s complicated. You may already be aware that  divorced spouses are eligible for benefits tied to their former marriage.

 Eligibility is determined by these criteria: 

  • You were married for at least 10 straight years.
  • You are at least 62 years old.
  • Your ex-spouse is eligible for retirement benefits.
  • You are currently unmarried.

However, if you remarry, you lose the rights to your former spouse’s benefits unless your new marriage ends, whether by death or divorce.

I understand that the monthly Social Security check you receive may pale in comparison with the new journey you are about to begin, but it’s important that you are aware of the financial component.

6. How many years have you worked? Most of us understand one simple concept: the longer we wait to take Social Security (up to age 70) the higher the benefit (spousal benefit may be an exception–see #4). 

We also understand that higher wage earners can expect to receive a higher benefit. But did you realize that your monthly benefit is also based on your highest 35 years of earnings?

What if you haven’t worked 35 years? Social Security averages in zero for those years, which reduces your benefit. If you have at least 35 years, but some of those years are low earning years, they will be averaged in, creating lower benefit versus continued employment at higher wages.

Are you still working in your 50s or 60s? Great! Those after-school jobs in high school or years when your income may have been low, are removed from the benefit calculation if you’ve exceeded 35 years of income.

When we are factoring in pensions and retirement savings, those extra dollars may or may not amount to much, but I believe it is something to be aware of.

For some folks, Social Security may seem simple. For others, it feels as if you’re entering a complicated financial maze. If you have questions about Social Security or are uncertain how to proceed, feel free to give us a call. And of course, be sure to run any tax scenarios by your tax or financial advisor.

If you would like to review your social security options, get an opinion on your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

Option Selling to Reduce Portfolio Risk — A Case Study in Ulta Beauty (ULTA)

I wouldn’t blame you if you read the title of this article and decided to just skip it. Indeed, when I talk to clients about selling call options against some portfolio positions they own, I can see their eyes glaze over before I even get to explaining the possible outcomes.

In case you need a primer, a comprehensive article I wrote several years ago explains the basics of working with options in “Using Options to Enhance Portfolio Returns” . For this case study, and since ULTA shares lost almost 30% of their value on Friday, I thought I’d walk through a good example of how selling calls against a position can mitigate a bad quarterly earnings report and loss of share value.

One of the positions we’ve held in client portfolios (and mine) since August 2016 is Ulta Beauty (ULTA).  For these past few years, calendar quarter after calendar quarter, Ulta has been reporting and beating earnings estimates, as well as raising forward looking earnings estimates. So when the price dipped in 2016 and 2017, I decided to buy shares for client portfolios, including my own. As a growth stock, Ulta does not pay a dividend.

The rosy quarterly earnings parade came to a tire-screeching halt this past week when, in a big surprise (shock?) to Wall Street and analysts, Ulta missed its quarterly earnings estimate and lowered forward earnings guidance. The stock was hit the hardest I’ve ever seen, losing almost $100 per share (30%) of its value on Friday alone. Just before the earnings announcement, the options markets (which handicap expected moves) were implying a +/-$20 per share move on earnings. What we ultimately got is known as a whopping five standard-deviation move instead. That’s epic as far as daily stock moves are concerned and those are quite rare.

To put that move into perspective, put options (stock options you can buy to protect your downside below a certain price) expiring on Friday August 30th, were not even available below the $260 price. That’s because, even at $260, options were implying that there was less than a 1% chance Ulta would be trading that low, let alone below $240. You usually see moves like this in risky biotech stocks failing an FDA drug approval, not a loved retailer.

So yes, in one trading day, Ulta gave back its entire stock appreciation of the past three years and is now trading back to the level it was at in June 2016. The entire client unrealized profit was wiped out overnight as algorithmic traders and portfolio managers dumped the stock en masse.

The sudden loss of profits is, needless to say, disappointing to put it mildly. For our case study, I want to point out where selling call options helped to hedge the position (i.e., reduce the risk) and actually allowed locking in profits along the period of time since ownership.

Shortly after we bought the shares in August of 2016, we began selling upside October 2016 call options against the positions. You must own 100 shares of a stock to sell one call option against it. Selling a call option means that for a small deposit to your account (known as option premium income), you sell someone the right (but not the obligation) to buy your shares from you at a certain price (i.e., the strike price) by a certain date (expiration date). So when the stock was trading at $255, we sold (upside) call options at the $270 strike level (collecting $340 for that first sale).

This meant, if Ulta was trading above $270 per share on or before expiration, the buyer of the option we sold could buy 100 of our shares for $270 each. If that occurred, our per share profit would be $1,500 ($270-$255=$15 x 100 shares) plus the $340 we collected for selling the call option. Therefore, our initial total profit, if the shares would have been “called” away, would have been $1,840 or 7.2%. Since this would have been a 45-day hold, the annualized return would have been a whopping 58.5%. All quoted figures don’t account for the small commissions incurred when buying or selling an option, which is about $4.95-$8.95 per transaction.

As it turned out, the shares never got called away (Ulta was trading below $270 on options expiration), and the October 2016 call option we sold essentially expired worthless, meaning that we got to keep the $340 we originally collected. This meant that we could do this again. And we did so by selling the November and then the December 2016 options at appropriate strike prices. The income generated through this process is called “option premium”.

Between 2016 and 2019, over a three year period, we collected and pocketed about $5,510 in option premium that we never have to give back, nor do we have any further obligation since the options expired. That’s a 21.6% return over three years, or a 7.2% annualized return on the cost of the 100 shares of Ulta owned. That certainly reduces (but doesn’t eliminate) the sting from the share price decline this past week.

Having those call options sold as a hedge against the position prior to the earnings announcement, clients did not suffer the 30% loss on the shares Friday.  Instead they gave up only 12.7%. That’s the power of option hedging.

To be fair, I should mention that the last call option we sold prior to earnings, was a $305 call expiring in January.  Had the shares gained 30% on Friday instead, our “upside” would have already been capped at $305 per share, and clients would have only participated to a much smaller extent to the upside. On the other hand, that cap would not have kicked in until January. Is it possible that the stock could recover by then? Options markets give that about a 15% chance today, so not likely. But then again, nobody would have ever expected Ulta to close under $238 on Thursday.

With the decline in the shares under $238, we closed the January 2020 call options on Friday for a 70% profit. To keep the shares hedged (while we decide what we ultimately want to do with Ulta Shares), we sold June $270 calls for $2,000 each. Unless the stock trades above $270 by June, we’ll get to keep the $2,000 and ….. here we go again!

In hindsight, buying put options (options that act as insurance against large declines like this one) to further protect our profits would have been prudent. But with the price of protection highly elevated, and taking into account the fact that we had call options sold against the position, I weighed the pro’s and con’s and decided against doing so.

Although my case study is about reducing risk through selling options, the lesson here is that taking some gains/profits in a stock during its march upwards, is a prudent move, whether you’re selling calls against your position or by just trimming the position. One never knows what happens, but you’ll be happy that you did when your stock gets hit like Ulta did. Ultimately, it’s not a gain until you take the profit off the table.

Disclaimer: None of the forgoing discussion is a recommendation to buy or sell any securities. It’s provided strictly for educational purposes.

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

 

Broken Records or Records Broken?

Rearrange the two words “broken” and “record” and combined they have two totally different meanings. A broken record is akin to your financial planner repeating over and over again about saving more and spending less. A record broken conjures up images of olympic athletes taking their craft to higher, never before achieved heights.  We also hear it often when referring to never-seen before stock market levels.

We’ve all heard it said: “Records are made to be broken.” We celebrate record-breaking winning streaks from our favorite teams and athletes. Conversely, we hope to avoid a long string of losses.

The bull (up-trending) market that began in 2009 is not the best performing since World War II (WWII). That title still resides with the long-running bull market of the 1990s. But it is the longest running since WWII (St. Louis Federal Reserve, Yahoo Finance, LPL Research–as measured by the S&P 500 Index).

In the same vein, the current economic expansion is poised to become the longest running expansion since WWII. For that matter, it’s about to become the longest on record. According to the National Bureau of Economic Research, which is considered the official arbiter of recessions and economic expansions, the current expansion began in July 2009. It has run exactly 10 years, or 120 months, matching the 1990s expansion (see below table).

Economic Scorecard

Expansions Length in Months
July 2009 -? 120
Mar 1991 – Mar 2001 120
Feb 1961 – Dec 1969 106
Nov 1982 – Jul 1990 92
Nov 2001 – Dec 2007 73
  Average 64
Mar 1975 – Jan 1980 58
Oct 1949  – Jul 1953 45
May 1954 – Aug 1957 39
Oct 1945 –  Nov 1948 37
Nov 1970 – Nov 1973 36
Apr 1958  – Apr 1960 24
Jul 1980  –  Jul 1981 12

Source: NBER thru June 2019

Barring an unforeseen event, the current period is headed for the record books.

While the economic recovery is about to enter a record-setting phase, it has been the slowest since at least WWII, according to data from the St. Louis Federal Reserve. For example, starting in the second quarter of 1996, U.S. gross domestic product (GDP), the broadest measure of economic growth, exceeded an annualized pace of 3% for 14 of 15 quarters. It exceeded 4% in nine of those quarters (St. Louis Federal Reserve). Growth was much more robust in the 1960s, and we experienced a strong recovery from the deep 1981-82 recession.

Economic booms and long-running expansions can encourage risky behavior. People forget the lessons learned in prior recessions and overextend themselves. Consumers can take on too much debt. Businesses may over-invest and build out too much capacity. We saw euphoria take hold in the stock market in the late 1990s and speculation run wild in housing not too long ago.

That brings us to the silver lining of the lazy pace of today’s economic environment.

Slow and steady has prevented speculative excesses from building up in much of the economy. In other words, a mistaken realization that the good times will last forever has not taken hold in today’s economic environment.

Causes of recessions

In economics, a recession is a business cycle contraction when there is a general decline in economic activity. Recessions generally occur when there is a widespread drop in spending (an adverse demand shock). The long-running expansions of the 1960s, 1980s, and 1990s led to a mistaken belief that various policy tools could prevent a recession.

Yet, expansions don’t die of old age. A downturn can be triggered by various events. So, let’s look at the most common causes and see where we stand today.

  1. Rising inflation leads to rising interest rates. In the early 1980s, the Federal Reserve pushed interest rates to historically high levels in order to snuff out inflation. The Fed’s policy prescription succeeded, but led to a deep and painful recession.
  2. The Federal Reserve (The Fed) screws up. A policy mistake can be the trigger, for instance if the Fed raises interest rates too quickly and restricts business and consumer spending. This is a derivative of point number one. There were fears the Fed was headed down this road late last year. Credit markets tightened, and investors revolted until the Fed reversed course after the markets swooned nearly 20% in the 4th quarter of 2018.
  3. A credit squeeze can snuff out growth. In 1980, the Fed temporarily implemented credit controls that briefly tipped the economy into a recession.
  4. Asset bubbles burst. The 2001 and 2008 recessions were preceded by speculative excesses in stocks and housing.
  5. Unexpected financial and economic shocks jar economic activity. The OPEC oil embargo in the 1970s exacerbated inflation and the 1974-75 recession. The tragedy of 9/11 jolted economic activity in 2001. Iraq’s invasion of Kuwait pushed oil up sharply, contributing to the 1990-91 recession. Such events don’t occur often, but their possibility should be acknowledged.

Where are we today?

Inflation is low, the Fed is signaling its first possible rate cut this week, and credit conditions are easy as measured by various gauges of credit. For the most part, speculative excesses aren’t building to dangerous levels.

While stock prices are near records, valuations remain well below levels seen in the late 1990s (I’m using the forward price-to-earnings ratio for the S&P 500 index as a guide). Besides, interest rates are much lower today, which lends support to richer valuations. That doesn’t mean that swaths of stocks or sectors are not over-valued. That’s also not to say we can’t see market volatility. Stocks have a long-term upward (bullish) bias, but the upward march has never been and never will be a straight line higher.

As I’ve repeatedly stressed, your financial plan is designed, in part, to keep you grounded during the short periods when volatility may tempt you to make a decision based on emotions. Such reactions are rarely profitable.

A sneak peek at the rest of the year

The Conference Board’s Leading Economic Index, which has a good record of predicting (if not timing) a recession, isn’t signaling a contraction through year end. But one potential worry: a protracted trade war and its impact on the global/U.S. economy, business confidence, and business spending.

Exports account for almost 14% of U.S. GDP per the U.S. Bureau of Economic Analysis (BEA). It’s risen over the last 20 years, but we’ve never experienced a U.S. recession caused by global weakness.

By itself, trade barriers with China are unlikely to tip the economy into a recession. Per U.S. BEA and U.S. Census data, total exports to China account for just under 1% of U.S. GDP. Even with higher tariffs, exports to China won’t grind to a halt and erase 1% of GDP.

What’s difficult to model is the impact on business confidence and business spending, which in turn could slow hiring, pressuring consumer confidence and consumer spending. Simply put, there isn’t a modern historical precedent to construct a credible model. Hence, the heightened uncertainty we’ve seen among investors.

Is a recession inevitable?

It has been in the U.S., but other countries have more enviable records.

Earlier in June, the Wall Street Journal highlighted, “Australia is enjoying its 28th straight year of growth. Canada, the U.K., Spain and Sweden had expansions that reached 15 years and beyond between the early 1990s and 2008. Without the Sept. 11, 2001 terrorist attacks, the U.S. might have, too.”

If trade tensions begin to subside (a big “if”) and if the fruits of deregulation and corporate tax reform kick in, we could see economic growth well into 2020 (and with some luck, into 2021 and beyond). But, I’ll caution, few have accurately and consistently called economic turning points.

The Fed to the rescue?

Rising major market indexes for much of the year can be traced to positive U.S.-China trade headlines (at least through early May), a pivot by the Fed from tightening monetary policy to loosening, and general economic growth at home.

We witnessed a modest pullback in May after trade negotiations with China hit a snag. The threat of tariffs against Mexico added to the uncertain mood until June 4th, when Federal Reserve Chief Jerome Powell signaled the Fed would consider cutting interest rates to counter any negative economic headwinds.

While Powell is not exactly promising to deliver any rate cuts, one key gauge from the CME Group that measures fed funds probabilities puts odds of a rate cut at the July 31st meeting at around 100% (as of July 28 – probabilities subject to change).

I’ll keep it simple and spare you the academic theory explaining why lower interest rates are a tailwind for equities. In a nutshell, stocks face less competition from interest-bearing assets.

But let’s add one more wrinkle–economic growth.

Falling rates in 2001 and 2008 failed to stem the outflow out of stocks as economic growth faltered. And, rising rates between late 2015 and September 2018 didn’t squash the bull market.

During the mid-1980s, mid-1990s, and late 1990s, rate cuts by the Fed, coupled with economic growth, fueled market gains.

It’s not a coincidence that bear markets coincide with recessions and the bulls are inspired by economic expansions. Ultimately, steady economic growth has historically been an important ingredient for stock market gains.

Final thoughts

Control what you can control. You can’t control the stock market, you can’t control headlines, and exactly timing the market turns isn’t a realistic tool. But, you can control your portfolio.

While I would expect the market to continue higher over the intermediate term, it would not surprise me to have a mid-summer pullback as August-September tend to be weaker months of the year. Don’t let volatility shake you out of your positions, but if you haven’t done anything to take some money off the table up to this point, it would be prudent to consider taking some profits on certain positions and add some defensiveness to your portfolio. This is not a recommendation to buy or sell any stocks or other securities.

Your plan should consider your time horizon, risk tolerance, and financial goals. There is always risk when investing, but we tailor our recommendations with your financial goals in mind. If you’re unsure or have questions, let’s have a conversation. That’s what we’re here for.

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

 

 

 

 

Tips to Teach Kids About Money

We may not even realize it, but most of our attitudes, fears and habits around money are formed when we are kids. How much our families made, how much they spent and even how much of an allowance we got, greatly influence how we feel and react to the lack of or the abundance of the greenback.

Kids learn the basics in school — reading, writing and arithmetic. But schools avoid almost any instruction about money. If they do offer a class, it may be an elective in high school, long after money habits have been formed.

I believe it’s important to start talking about finances early, when kids are young. You can begin to share your values and help kids shape their views on money in a culture that places a premium on “things,” not savings.

While we can’t shelter our children, we can teach them. It’s why I am sharing a guide of practical tips that I believe will help put your kids on the right path.

1. Teaching delayed gratification. This is the hard part. Some of us are better than others, but few have truly mastered the art of patience. After all, we are human!

Look at it another way for kids. Anticipation can be half the fun! It’s the journey. Think about it:  your kids awaiting the arrival of Santa, or the excitement that precedes going to an amusement park or on an upcoming family trip.

If they want to buy a pricey item, help them save for it. You can lend support by setting up various methods for savings. I remember the piggy bank. Money goes in, but never really comes out. Instead, consider setting up three jars: One for savings, one for giving, and one for spending.

2. Incorporate giving it away. I believe the giving jar is as important, if not more important, than the savings jar.

Do your children have a cause that resonates in their heart? Do they want to give to their church? Is there a local food bank or animal shelter your daughter or son can assist with donations?

Learning to let go and help those who are in need will create a stronger sense of altruism and selflessness that, if taught early, will blossom in them as adults.

When it comes to charity, let their treasure follow their heart.

3. Kids need money. Theory without practice won’t work. Kids need a hands-on lesson. You may start with an allowance (some refer to it as a commission)—you may pay kids for various chores, or both. That’s a parenting preference, and there are advantages to both.

What is an appropriate allowance? According to a study by RoosterMoney published by The Balance, the weekly allowance earned by a 4-year-old averages $3.76. At 8 years of age, an allowance averages $7.27 per week. At 12, the allowance is $9.85 and $12.26 at 14.

The study offers reasonable guidelines, but you may adjust at your discretion.

What about birthday gifts, Christmas gifts, etc.? Set goals with your children, but I lean heavily toward the savings bucket. Those annual gifts will add up over the years. Your kids could graduate high school with a tidy sum of cash if they have the discipline to save.

4. Teach by example. I remember a time I paid for my purchase at the gasoline pump, got back into my car, and drove away.

 My young daughter accused me of stealing!

She understood the idea that “what’s not ours isn’t ours,” but she didn’t grasp the concept of “plastic money.”

 I explained how I paid without going into the store, discussed the concept of a credit card, and emphasized these purchases are always paid in full at the end of each month. Today, I still impart the benefits and dangers of credit cards.

Was this a lifetime lesson for her? I certainly remember helping my parents pay their credit card balances off in full each month.

In addition, consider using lists when shopping. Your children will see that it helps avoid impulse buys. And, as kids grow older and the discussions are age appropriate, explain why you try to avoid impulse purchases. Oh and it goes without saying: never shop for groceries/food when you’re hungry.

Use various examples from your own life when you teach your kids about the importance of money and savings.

5. Encourage summer and after-school jobs. Trading time for cash via a job helps kids learn the invaluable lesson of hard work. It also supplements savings and provides spending money.

Cutting your own or the neighbor’s grass, shoveling your own snow or the neighbor’s snow, yard work, a lemonade stand, babysitting, helping in the family business, working retail, household chores, or working as a lifeguard are options.

Besides the extra cash, they will learn a strong sense of pride and responsibility that will carry over into adulthood.

6. Open a savings account. Not that long ago, a savings account earned a respectable interest rate. That’s not the case today. Still, a savings account helps kids learn.

A 5-year-old may not need a savings account, but adulthood isn’t far away for a teen or pre-teen. As young adults they will have a checking account, debit card, and eventually a credit card. Baby steps in the right direction will ease the transition.

As they grow older, discuss the benefits of investing with your kids. Outside of a college savings account, you may open an investment account or Roth IRA in their name and teach them about investing. You could start it with seed money and have them contribute on a regular basis (they need earned income to contribute to a Roth IRA). More importantly, help them buy into a savings goal. That way, they will take ownership.

If you’re unsure about how to start the process, we’d be happy to point you in the right direction.

7. There’s an app for that. Today, there are mobile apps that can help kids. Bankaroo, iAllowance, and PiggyBot are just a few. Feel free to look online for one you feel is most appropriate for your child.

8. Guide them with goal setting. Are they trying to save for something? Help them come up with a plan and incentivize with matching funds. Companies do this with 401(k)’s, why can’t parents?

Discuss the importance of needs versus wants. A teenager may need a bicycle. But do they need one with all the bells and whistles? Or, are there reasonably priced bikes that won’t bust the savings account?

9. Money isn’t everything. Yes, it’s important. It gives us choices. But by itself, money can’t buy happiness.

10. Let them make mistakes. Ashley LeBaron, a graduate student at the University of Arizona, said, “Let them make mistakes so you can help them learn from them, and help them develop habits before they’re on their own, when the consequences are a lot bigger and they’re dealing with larger amounts of money.”

Not surprisingly, her research showed those who had practical experience with money during childhood learned how to work hard, how to better manage money, and how to spend it wisely.

That may be the most important desired outcome.

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

 

Big Changes Coming to Retirement Plans

There are multiple bills before Congress now that are intended to help IRA owners and  participants invested  in workplace retirement plans such as 401(k)s. The proposals have some overlapping provisions, along with a number of important differences.

The House of Representatives passed a retirement bill (known as the SECURE Act) on Thursday which includes an assortment of changes for participants in 401(k) plans and owners of IRA’s. The Senate may be poised to pass the bill, or a similar one, quickly and send it to the president, who is expected to sign it. Here’s a look ahead:

Convert your IRA Into an Annuity

It’ll become easier to convert your retirement savings into a steady lifetime income—a feature common to old-fashioned pensions—by buying an annuity in a 401(k)-style retirement plan. Currently, only 9% of employers offer this option, according to Vanguard Group Inc.  Employers would be able to choose whether to offer an annuity and, if so, which type to offer.

Keep Contributing after Age 70½

The bill repeals the age cap for contributing to a traditional IRA, currently 70½, making it easier for people with taxable compensation to continue saving if they continue to work.

Defer Required Minimum Distributions Until Age 72

Under current rules, you must start taking minimum (taxable) withdrawals from your IRA or 401(k) when you turn age 70½. Under the new bill, the age to start taking required taxable withdrawals from 401(k)s and IRAs would increase to 72.

See How much Income Your 401(k) Supports

The legislation would also make it easier for employees to understand how much monthly income their 401(k) balance supports by requiring employers to disclose an estimate on 401(k) statements. So participants would see not only their account balance on their statements, but also a lifetime stream of monthly payments based on expected-mortality tables.

Part-time Employees Can now Participate in 401(k)s

The bill requires 401(k)-style retirement plans to allow long-tenured part-time employees working more than 500 hours a year (employed for at least three years) to participate.

Penalty-free Withdrawals for Expenses of Adoptions or Child-birth

The bill would allow you to take penalty-free distributions from 401(k)s and IRAs of up to $5,000 within a year of the birth or adoption of a child to cover associated expenses (normally, a 10% penalty tax applies for pre-age-59½ withdrawals). You will still owe taxes on the withdrawal.

Inherited IRA’s “Stretch” Limited to 10 Years

Currently, with a few exceptions, those who inherit an IRA can elect to take required minimum distributions over their lifetimes, which could stretch out for decades. Under the bill, heirs would no longer be able to liquidate the balance over their lifetime and stretch out tax payments. Instead, if you inherit a tax-advantaged retirement account after Dec. 31, 2019, you must withdraw the money within a decade of the IRA owner’s death and pay any taxes due.

Exceptions are provided for surviving spouses and minor children (under 18), folks who are less than 10 years younger than the account owner, and the chronically disabled. Planning distributions during this 10 year period will be crucial to heirs to avoid the highest tax rates from large distributions.

Utilize 529 Education Savings Plan Money To Pay off Student Loans

You’d be able to withdraw as much as $10,000 from a 529 education-savings plan for repayments of some student loans (including siblings), registered apprenticeships and homeschooling costs.

Group 401(k) Plans

An estimated 42% of private-sector workers don’t have access to a workplace retirement-savings plan. Under the bill, employers without retirement plans would have the option to band together to offer a 401(k)-type plan if they choose.

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

Source: Wall Street Journal

 

 

What’s Going on in the Markets: April 28, 2019

It’s no surprise to anyone paying attention to financial news that the stock market, as measured by the S&P 500 index, closed at an all-time high last Friday. It was one measly point away from the all-time intra-day high set on September 21, 2018 (2940.91). The technology heavy NASDAQ indexes have already surpassed their all-time 2018 highs.

You’d think at new all-time highs, the masses would be euphoric and pouring money into the stock market hand-over-fist. But alas, that’s not the case at all. The rise from what I like to call the “Christmas Eve Stock Market Massacre of 2018” has been one of the most distrusted and hated rallies I’ve ever seen in my over forty years of following the stock markets. Ironically, that’s what might keep the market from falling over and moving higher, at least temporarily.

I’ll be the first to admit that I personally haven’t fully embraced the 24% rally from the Christmas Eve bottom. It’s been a torrent advance that has given latecomers (as well as early sellers) very few low-risk opportunities to jump in. That’s to say, pullbacks since Santa Claus came calling have been shallow and fleeting. Bull markets tend to be that way. Virtually every portfolio manager and investor I talked to was over-invested going into the 4th quarter 2018 swoon, and under-invested during the 1st quarter 2019 relentless advance.

Such is life investing in the stock markets.

Pundits would say that it was the Federal Reserve Chairman’s walking back talk of planned interest rate hikes in 2019 as the proximate cause for the rally. Markets love low interest rates (cheap money) as companies borrow even more money to buy back their own stock. Lower interest rates for longer have always meant corporate earnings can grow a bit faster with less drag from servicing (paying down) debt and financing expansion plans.

If the promise of lower interest rates for longer is the proximate cause for the rally, then recent positive economic news might cause the “data dependent” federal reserve to rethink the interest rate pause. A federal reserve board meeting is scheduled for this week, though the chance of an interest rate hike announcement at this meeting is virtually nil.

Just this past Friday, what was widely forecast as a coming dismal 1st quarter 2019 gross domestic product figure (under 1%), turned out to be more than thrice as good, coming instead at 3.2%.

Also this past week, while existing home sales came in 4.9% below expectations, new home sales came in almost 4.5% above expectations. In addition, durable goods orders also came in much better than expected. Finally, weekly jobless claims continue to be low. The March monthly jobs report will be announced on Friday May 3.

Expected to be dismal as well, first quarter 2019 corporate earnings reports have also continued to surprise to the upside. So far, 230 of the S&P 500 have now reported Q1 2019 earnings, and the reported Earnings Per Share (EPS) growth rate for the index is up about 2%. Granted, when companies lower expectation ahead of time, beating them becomes the norm (games companies play!)

So should we throw caution to the wind, set aside all hedges and invest all idle cash since so little seems to derail this charging bull market (e.g., the still unsettled trade wars, the Mueller Report, rising debt levels, the never-ending Brexit debacle, slower global growth, higher gas prices, etc.)?

In a word, no.

While it appears that the markets will continue to move higher in the near term, the risk-reward ratio at these levels does not favor heavy deployments of capital. Getting to a previous market high doesn’t necessarily mean we’re going to smash through those old highs and rally another 5-10% immediately. After all, there are many regretful buyers from the 2018 highs who can’t wait to get out at even-money if given that opportunity (exclaiming the famous phrase anyone unexpectedly caught in a nearly 20% stock market drop “never again!”).

That incoming supply of shares from regretful buyers will likely cause a long battle around last year’s highs, making for a pause in the upward momentum. Besides, after a nearly 25% run, the market is way overdue for a break.

A Wall of Worry?

In addition to the still unresolved trade wars and ongoing Brexit discussions, we have the following worries on the table (acknowledging that the market likes to climb a wall of worry):

  1. Recession Fears: an inverted interest rate curve, where short term rates are higher than longer term rates, has historically been a warning flag for the economy, though the lead time to a recession has been 11 months on average. In fact, there has been only one instance where the yield curve inverted without a U.S. recession, in January 1966. It is worth noting, however, that there was still a bear market during that period, which began just one month after inversion.
  2. Inflation Fears: as inflation indicators have eased since the middle of 2018, investors and economists alike have pushed this all-important economic barometer to the back of their minds. However, inflationary pressures, in the form of wage hikes, could reemerge in the near future, forcing the Federal Reserve to again take action when they least want to do so.
  3. Corporate Debt: over the course of this economic cycle, business debt has skyrocketed as U.S. corporations have issued record amounts of debt.  Non-Financial Business Debt as a percentage of GDP is close to an all-time high, and well in excess of the levels reached at the beginning of the last three recessions. If the economy slips into recession, marginally profitable companies will be unable to pay back interest on their debt, let alone the principal.
  4. Small Business Optimism: both small business owners and CEOs are not as enthusiastic as consumers or investors. Small business confidence fell sharply in the closing months of 2018 and has shown little propensity to recover. Corporate CEO confidence experienced an even bigger hit, with the same inability to rebound from these depressed levels. Business owners are most likely feeling the pressures of a tight labor market, rising wages, and squeezed profit margins. That could spell trouble for earnings and business spending ahead.

So What To Do Now?

The economy is stable and employment is strong. At this point, blue chip indexes have surpassed or are very close to surpassing their previous highs, tempting investors to climb aboard for another potential leg upward. But should you?

The financial planning answer to that question is that it depends on your goals, time-frame and risk tolerance. But the more realistic answer is that it really depends on your current investment level and your confidence that we’re just going to sail higher. While in the long run the market trends higher, no one I know of is a fan of investing at a potential top.

I suggest that you think back to how you were feeling in December of 2018, and if you felt that you were over-invested, or were surprised or uncomfortable reading the balances on your year-end account statements, take this gift the market has given you and reduce exposure to the markets. Even if you weren’t, ask yourself this: should I be taking some profits off the table? This is not a recommendation to buy or sell anything; only you and your financial planner can make that decision (we can help!)

I’m personally not so confident we’re going to just continue to rally without a near term pullback, and therefore I continue to position client and my personal portfolios with a defensive tilt. Mind you, I see nothing in the price action to tell me that a pause is imminent, but severe downside action can change that and repossess weeks’ worth of gains in a matter of a day or two. This, however, should be meaningless to investors with a long-term investing horizon.

While we have participated robustly in this rally since 2018, I believe that the market’s ability to achieve notably stronger gains from here is somewhat questionable. And from a safety-first strategy viewpoint, the longer-term outlook is more ominous.

The recent inversion of the yield curve is a classic warning flag, regardless of whether it remains inverted over the intermediate term. And the simmering wage inflation pressures are not going to subside anytime soon, especially when initial claims for unemployment are hitting 50 year lows. That means the Federal Reserve might have to renege on their “no rate hike” promise before this year is over. Few on Wall Street are anticipating that the Fed might take away the low interest rate punch bowl again.

As Jim Stack of InvesTech Research warns, “One of the most difficult aspects of negotiating the twists and turns of a late stage bull market is keeping one’s feet objectively planted on firm ground. It’s hard to argue against positive economic reports, except with the historical knowledge that bull markets peak when economic news is rosiest. And with consumer confidence near the highest levels of the past 50 years, one would have to think that we are approaching a peak. That inherently leaves a lot of room for potential disappointment.”

Even if it means leaving a few dollars of market profits on the table, my safety-first approach leaves me cautious/defensive with an abundant level of cash and hedges for the time being. Now is a good time to take stock of your investment level, and decide for yourself whether you’re prepared for the next downturn.

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

Is “Smart Money” Really that Smart?

Ask ten people if they think they’re a good driver, and I’m willing to bet that most, if not all of them, will claim to belong to that camp. The other guy or gal is the bad driver, not me. But someone is causing all of those car accidents and traffic snarl-ups, so we can’t all be considered good drivers.

The same can be said about investors. We often hear financial pundits on TV talking about what the “Smart Money” is doing. Who are these smart people? What makes them so smart? And if they are smart, what are we? I won’t keep you in suspense: yes, you might be considered “dumb money”.

Defining “Smart Money”

Terms that Wall Street throw around such as “smart money” and “expert” can sound very alluring to us. Before we jump and listen to what they have to say, we should first find out more about what makes them so smart or deemed an expert. The truth is there is no standard definition.

In all my years in the industry, I still don’t know what makes someone a media proclaimed “expert” or “smart”. Based on my experience, an expert is someone who makes confident predictions and is right only about half the time. “Smart money” generally refers to a person/institution with a lot of money, but it can also be used to describe people who run complex investment schemes (so complex that we common folk can’t understand it).

Forget Smart Money; Be a Smart Investor

Historically, “Smart Money” has not translated into outsized returns. Their returns are often in line with straightforward (not complex) investment strategies. In fact, the Barron’s Roundtable of Smart Money in 2018 handily underperformed the markets (and that was not an anomaly).

Wall Street Journal personal finance writer Jason Zweig recently opined, “the only smart money is the money that knows its own limitations.”

Legendary investor Warren Buffett said, “What counts for most people in investing is not how much they know, but rather how realistically they define what they don’t know.”

As Zweig writes, it’s surprisingly easy to find instances where smart money managers can sometimes behave just as irrationally as individual investors who chase prices up to parabolic levels, and join in the panic at the lows. They are, after all, humans just like us, subject to the laws of fear and greed innate in all of us.

Let’s not forget that professional hedge-fund analysts, fund-of-fund managers and other such purportedly expert advisers, put thousands of investors into Bernard Madoff’s Ponzi scheme. They ultimately lost millions of dollars of clients’ money.

Another example: among the eager clients of the Foundation for New Era Philanthropy, one of the most notorious fraudulent investment schemes of the 1990s, were such billionaires and philanthropist as Laurance Rockefeller, former Goldman Sachs co-chairman John C. Whitehead and ex-U.S. Treasury Secretary William E. Simon.

Smart investors recognize that it’s OK they don’t know everything. And neither do the “smart money” nor the so called “experts”. Once we define the limits of our knowledge and understanding, we can focus our time and energy on what matters most – those things we can control.

As investors, we can control our decisions and reactions to uncontrollable market events. Following a disciplined and deliberate decision-making process is one of the smartest things investors can do. Working with a fee-only advisor can not only help you sort through all of the investment options and risks, but can also keep you from panicking at the lows, and feeling overly euphoric at the top.

If you would like to review your current investment portfolio or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch. We start with a specific assessment of your personal situation. There is no rush and no cookie-cutter approach. Each client is different, and so is your financial plan and investment objectives.

Source: (c) 2019 The Behavioral Finance Network, used with Permission

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